The U.S. District Court for the Eastern District of New York recently held that a confirmable Chapter 13 plan cannot both “vest” title to real property and “surrender” that property to a secured lender, and that the secured lender may refuse to accept the vesting in satisfaction of its claim.
Thus, the Court held that a debtor may not force the transfer of title in collateral to a secured creditor in satisfaction of the secured creditor’s claim, without the consent of the secured creditor.
A copy of the opinion in HSBC Bank USA, NA v. Zair is available at: Link to Opinion.
Two mortgagors filed for Chapter 13 bankruptcy protection. The bankruptcy plan identified a vacant residence encumbered by two mortgages. The creditor was the first-lien mortgagee.
The creditor first-lien mortgagee properly filed a proof of claim representing the principal unpaid balance on the mortgage, plus interest, fees, and pre-petition arrearages.
The debtors then filed a second amended Chapter 13 plan, which is the plan at issue. The plan provided, in relevant part: (1) the debtors would surrender the vacant property to the creditor in full satisfaction of the secured portion of the mortgage loan; (2) to the extent that the outstanding balance on the creditor’s loan exceeded the value of the vacant residence, the creditor would have 30 days to file an unsecured deficiency claim; and (3) upon confirmation of the plan, the title to the vacant residence would vest in the creditor.
The mortgagee objected to the plan, arguing that although the residence could and should be surrendered under 11 U.S.C. § 1325(a)(5)(C), it would be improper to transfer title to the vacant residence to the mortgagee without its consent.
The Bankruptcy Court disagreed, holding that while surrender and vesting are different, they are not mutually exclusive, and both options may be deployed by the debtor in a Chapter 13 plan. The mortgagee appealed to the District Court.
As you may recall, 11 U.S.C. § 1325(a)(5) provides that, as to each secured creditor, a Chapter 13 plan may only be confirmed: (1) when the secured creditor accepts the plan; (2) when the debtor surrenders the secured property; or (3) in an option known as a “cramdown,” when the debtor, over the creditor’s objection, retains the secured property, yet pays only the present value of the collateral to the creditor over the life of the plan, with the remaining balance of the debt becoming a general unsecured claim.
In addition, 11 U.S.C. § 1322(b)(9) provides that the Chapter 13 plan may provide for the vesting of property of the [bankruptcy] estate, on confirmation of the plan or at a later time, in the debtor or in any other entity.”
The District Court noted that the Bankruptcy Code does not define vesting or surrender, but the law is well settled that vesting is a more consequential event than surrender — surrender means making the property available to be taken, and vesting means transferring title.
The mortgagee argued that to the extent the plan non-consensually vests title to the vacant residence in the mortgagee, it cannot also provide that the residence be surrendered. Accordingly, the mortgagee argued, because surrendering the property under the Bankruptcy Code is mandatory and the plan did not satisfy any other requirements for plan confirmation, the debtor’s second amended Chapter 13 plan was not confirmable.
The District Court noted that mortgagees often seek to avoid the vesting option because the mortgagee would be stuck with the collateral and be responsible for maintenance, taxes, and other obligations that come with owning the property, but with surrendering the property, the title to the property remains vested with the debtor until the property is sold at a foreclosure sale.
The debtors and trustee argued that the mortgagee’s interpretation ran counter to the Bankruptcy Code’s goal of providing a fresh start to debtors. They argued that allowing a debtor to incur expenses associated with the property in a plan, until the creditor completes a foreclosure, goes against the fresh start policy.
The District Court referenced numerous cases that were decided after the Bankruptcy Court entered its ruling in this case. See In Re Williams, 542 B.R. 514 (Bankr. D. Kan. Dec. 2, 2015) ( holding that “§ 1325(a)(5) does not permit confirmation of a plan vesting title to collateral in the secured creditor over that creditor’s objection”); see also In re Weller, 2016 U.S. Bankr. LEXIS 108 (Bankr. D. Mass. Jan. 13, 2016) (holding “a plan which vests property in a secured creditor does not fulfill the requirements of § 1325(a)(5)(C) and may not be confirmed over that secured creditor’s objection”); In Re Tosi, 2016 Bankr. LEXIS 690 (Bankr. D. Mass. Mar. 4, 2016) (holding “that the proposed plan was not confirmable because, though it had used the nomenclature of surrender, in fact it merely vested the property in the mortgage, an act that substantially modifies the mortgagee’s rights as to its collateral, and was thus inconsistent with surrender, and therefore effected no true surrender at all, merely a vesting…and vesting precludes surrender.”)
The District Court held that the mortgagee has the right to control its own remedies as to the vacant residence and cannot be subordinated to the debtors’ interest in achieving a fresh start. The Court noted that, as first-priority lienholder, the mortgagee is entitled to a full array of property rights, including its right to foreclose its security interest, or refrain from doing so.
The District Court held that there can be no dispute that exercising the option of vesting under § 1322(b)(9) as a method of forcing the mortgagee’s hand to take some action with respect to the collateral that it would not otherwise take, is a material limitation of these rights. Thus, the Court held, although the statutory language at issue does not expressly bar the possibility that real property may, under appropriate circumstances, be surrendered to and vested in the same secured creditor, the incompatibility of these concepts in situations where the creditor withholds its consent is obvious.
The District Court found its result to be particularly warranted in this case as the vacant residence was destroyed and rendered uninhabitable by a hurricane almost three years prior.
The Court also rejected the debtors’ argument that surrender is a natural first step in transferring property out of the bankruptcy estate. The Court held that this approach ignores the irreconcilable implication of rights that arise when both surrender and vesting are included in the plan without a secured creditor’s consent.
Lastly, the District Court held there was no principled basis for exalting the policy in favor of fresh starts for debtors over the Bankruptcy Code’s obvious goal of preserving the well-settled property rights of secured lenders.
In sum, the District Court held that a secured creditor’s rights under bankruptcy code § 1325(a)(5) providing for surrender in a Chapter 13 bankruptcy case are impermissibly compromised by a plan that provides for non-consensual vesting under Bankruptcy Code § 1322(b)(9) and thus the plan cannot be confirmed. Accordingly, the District Court reversed the ruling of the Bankruptcy Court.